Today we have a guest post about house hacking from Erik. Erik a personal finance and self-improvement junkie who blogs over at The Mastermind Within. House hacking is one of those things I wish I knew about when I was a bit younger. It’s entirely possible to house hack your way to zero housing costs. Housing represents 35% of the average household’s budget so reducing that, even by a little bit, can mean a huge increase in your capacity to save.

In this post, Erik shares the 5 reasons why he believes house hacking is the best early age wealth building strategy. I hope you enjoy it!

– Owen

There are many wealth building strategies in the world: invest in stocks, invest in real estate, build a business, earn money through your job, etc. However, there is one wealth building strategy which is underutilized and foreign to many people: house hacking. In this post, I will tell you the reasons why house hacking is the best early age wealth building strategy.

What is House Hacking?

House hacking is buying an owner-occupied property and getting paid to live for relatively cheap or free. How are you able to live for relatively cheap or free? You get a house which has rental potential, and rent out your additional rooms or units to other people (friends, Craigslist people, strangers, etc.) House hacking allows you to get into the real estate game and also have your housing subsidized by roommates or tenants.

Many people are unaware or unable to buy a house at an early age. Due to compounding and having a time advantage, it’s great if you can start young. Why not have roommates and tenants pay your mortgage?

The 5 Reasons Why House Hacking is the Best Early Age Wealth Building Strategy

There are 5 reasons why I believe house hacking is the best early age wealth building strategy. House hacking allows you to live for cheap and gives you many options for your money.

1. Passive Income with Low Capital Requirement

When I bought my house in July 2015, I had FHA financing and put 3.5% down. To buy my house, I only had to put down $5,200. In the first year, I had 3 roommates who were paying me $1,650 a month. My housing expenses were essentially $170 a month, while my roommates were paying me $600, $575, and $475. In addition to the cheap “rent”, I was gaining equity at roughly $400 a month, and had the nicest room in the house!

In the first year, I brought in $19,325 in rental income through my roommates and tenants. In 1 year, I had created $19,325 of income, had spent only $170*12 = $2,040 on “rent”. This is very nice for building wealth, as it’s difficult to create nearly $20k off of an initial $5k investment!

To get the same level of passive income, $1,650 a month, I would have to have roughly $500,000 yielding 4.0% annually. How many young adults have $500,000? I’ll take a guess: not many.

In addition to the low capital requirement, to earn this income I didn’t have to do much work. I’m getting paid to live in my house and let others share my space with me. It’s awesome. Passive income is the best income because you can leverage our time, money, and assets to make more money!

2. Improved Cash Flow

Increasing your income is great, but the real benefit is the cash flowing in at the beginning of the month. With rent coming in at the beginning of the month, you are able to make payments on your debt, make other investments, or save up money for an emergency more effectively.

I had $8,000 in student loans when I started house hacking. After buying my house, I paid these loans off in 4 months because I was able to throw more money at them than before. By pre-paying my loans, I was able to save on interest. Now, I’m loving the extra cash flow because I can move money to different accounts or pay off my bills and not have to worry about the next paycheck.

Cash (flow) is king.

3. Appreciation through Leverage

Houses are an asset and have the potential to increase in price. Housing prices typically increase 2-3% a year due to inflation (sometimes more when there is limited housing supply or the house is in a desirable area.)  Since people do not need to buy the property outright and you can get a loan, you will have leverage on the house. If I take out a mortgage and make a 20% down payment, I’m leveraged 5 to 1. This means if the price goes up 5%, your wealth increases 5 times more than if you were leveraged 1 to 1

Back to our example, if you buy a house for $150,000 and you make a down payment of $30,000, and the value of the house goes to $160,000 in the first year, then while the home value has only increased 6.6%, your return on invest is 33% (6.6% * 5, or $10,000/$30,000). Find another investment class that can return 15%+.

4. Tax Benefits

I mentioned above that for the first year I was bringing in $1,650 a month in rental income. This resulted in about $19,000 in rental income for the first 12 months. Here’s the best part: I was able to claim part of my insurance, interest, and any repairs as expenses. In addition, depreciation has a huge tax impact for home owners. For the first year, my taxable income was about $9,000, or a reduction by $10,000.

If I get a raise at work by $10,000, I’m not able to deduct any expenses or decrease my tax bill. By owning a house and renting it out to your roommates, you can reduce your taxes through interest expense, depreciation, and any other improvement expenses. Taxes are a person’s #1 expense – reducing them is one of the great strategies to build wealth!

5. Gaining Management Experience

Managing a rental property takes work and having tenants – even if they are in the same unit as you – is a stressful task. If the sink stops working, you need to fix it. If the AC goes out, there are other people you are accountable to.

I’ve had to become more aware of my surroundings at my house, look for potential issues and fix them before they are broke, and have the flexibility to make time to get things done. There have been numerous times when something in my house has broken down and I’ve had to drop everything to fix it. That being said, I’m a better person for it!

Bonus: Ego Boost?

How awesome is it to be in your twenties and thirties and owning a house? Some people are still living at home with their parents, and yet here you are, a real estate mogul! Okay, I’ll admit, this one might not be a real reason, but it is pretty cool to own property!

Conclusion

House hacking is a great way to build wealth at an early age. If you are graduating college, or newly graduated soon and want to start building wealth for the future, consider house hacking. In 5 years, you will be extremely happy you did so because you will be wealthier, have better real world skills of management and handiness, and will be set up for financial success later in life!

Erik is a personal finance and self-improvement junkie who blogs over at The Mastermind Within. He writes about personal finance tips, stories of his entrepreneurial endeavors, and the books he is reading to become better. Check out his blog for transparent, educational, and fun content!